Monetary policy continues to provide hope: IIFL

Brokerage house reacts to RBI policy

Monetary action in line with expectation - CRR cut by 25bps

As per market expectation, RBI reduced CRR by 25bps to 4.25% thereby injecting Rs175bn of primary liquidity into the banking system. The repo rate was left unchanged at 8%. The CRR cut was in anticipation of a prospective tightening of liquidity conditions in coming months. After easing through H1 FY13, liquidity conditions tightened in October (especially over the past few days) on account of a build-up in the Centre’s cash balances and seasonal increase in currency demand.

Inflation projection raised while GDP growth projection lowered

WPI and core inflation has been stubborn in recent months. Persistence of non-food manufactured product inflation around 5.5% and retail inflation near 10% despite the sharp growth slowdown have been the key concerns. Consequently, central bank has raised its baseline projection for WPI to 7.5% from 7% earlier for March 2013. With near-term risks on the upside, RBI expects inflation to rise in Q3 before easing in Q4. The baseline projection of GDP growth for FY13 was revised downwards to 5.8% from 6.5%. Non-food credit growth projection was marginally lowered to 16%.

Repo cut unlikely in December also; but significant easing in Q4 probable

With RBI’s unwavering focus on managing inflation and inflation expectations; we assign a low probability to repo rate cut in December mid-quarter review. However, implementation of recent policy initiative, progress towards fiscal consolidation and a likely retracement of inflation are expected to provide significant room for monetary easing in Q4 FY13.

Provisioning on restructured standard assets increased by 75bps

In a surprise move, RBI increased the provision for restructured standard accounts to 2.75% from existing 2%. The working group chaired by B. Mahapatra in its July report had recommended provisioning against such assets being raised to 5% over a two-year period. For fresh restructuring of standard assets, an immediate provision of 5% was recommended by the report. With final guidelines on this regard expected to be issued by January 2013, the central bank in the interim raised the provisioning requirement.

The additional 75bps provisioning is estimated to have an impact of 2-6% on PSU Banks FY13 earnings. SBI is likely to be least impacted with relatively lower stock of restructured assets while OBC and Central Bank are likely to face a much larger impact. We don’t see significant impact for larger private banks as they have marginal restructured assets. As restructuring activity is likely to increase, any further increase in required provisioning (towards levels recommended by Mahapatra report) would have material impact on profitability of the sector.